CTAIRA analyst Chris Tarry on why Alitalia's continued difficulties illustrate that consolidation is not a solution to all airline problems on its own
In any industry, consolidation is a means to drive improved performance – and as an industry matures, it is seen as an inevitable outcome. We should, however, be clear what we mean by consolidation. The Oxford English Dictionary defines it is a process where a "number of things are combined into a single more effective or coherent whole", whereas another suggests that it "makes something stronger or more solid".
While consolidation is usually seen as the outcome of the process of merger and acquisition, at an industry level it can also occur as a result of a company exiting a market – whether or not this involves its failure.
Despite the synergies announced at the same time as any deal, the actual impact – in terms of fundamentally and materially improving the performances of the businesses involved – have for the most part been distinctly underwhelming. At the simplest level, where the consolidation involves a merger or one company acquiring another, the outcome should be one where there is markedly more revenue for significantly less cost as, among other things, duplicated activities and facilities should be eradicated.
The news that Alitalia is again at a crossroads brings these issues into focus. Shareholders have approved plans for a €300 million ($407 million) capital increase and €200 million in new and confirmed credit lines. The Italian post office is also set to be an investor to the tune of up to €75 million.
Yet against a background where losses were almost €300 million in the first half of the year, it is reasonable to consider whether Alitalia has in fact reached a position where what is now being proposed is in fact to sustain the unsustainable. While there are undoubtedly strong social and political reasons for seeking to ensure that Alitalia continues to operate, the business case looks increasingly stretched.
In a wider European context, Air France-KLM is a 25% shareholder in Alitalia, and while the Italian government sees the Franco-Dutch group as a source of new funds, there is quite rightly a degree of circumspection. Not only is Air France-KLM facing challenges with its own restructuring programme, the prospect of investing more money and time in a business which looks increasingly less core-focused – and where successful outcomes with restructuring remain an objective rather than a reality – lessens the need to act and invest.
The view expressed by Italy’s transport minister that the cash injection places Alitalia in a position of being an equal in any merger discussion tends to stretch the imagination. The need for Alitalia remains to transform its business to one that is financially sustainable, and in this respect a cash injection and a credible, coherent and above all implementable new business plan may be necessary. But this is a long way from being sufficient conditions for success. A critical need will be to rapidly transform the economics of the business. Also, the government's efforts to broker a deal will continue to give the impression to the workforce that there will be a safety net, and as a result weaken the ability of management to make change.
Rather disappointingly, it appears that it is only when precipice-management techniques can be used – where everybody looks over the edge and understands there is no safety net – that sufficient and rapid change can be made. Despite numerous restructuring plans in the past, the Alitalia born out of its 2009 revamp still needs to address the issues of the current market environment, let alone future market environments.
Despite its economic woes, Italy has been a market of opportunity for Ryanair and EasyJet in particular. This is not just because of gaps left by Alitalia, but in part because northern Italy is still perhaps the third-richest region in Europe. In March, EasyJet’s management gave a presentation to analysts and investors entitled "the Italian Opportunity". While there was no explicit mention of Alitalia in any of the slides, the comment "structural changes are benefitting and will continue to benefit EasyJet" was very telling.
According to SRS Analyser, since 2004 the number of one-way seats offered by Alitalia has fallen from 24.6 million to 19.5 million in 2013, while EasyJet has increased the number of one-way seats in the Italian market from 0.8 million to 9.2 million, and Ryanair from 4.4 million to around 19 million.
Pressure on Alitalia has also increased from other sources. Most recently, Emirates' direct service from New York to Milan provides further evidence of the changes in the market. Not only will Emirates benefit from fifth-freedom traffic, but it underlines that "the route will also benefit Emirates codeshare and interline partners JetBlue and EasyJet", reflecting a further change in the dynamics of the Italian market.
Alitalia's predicament brings a number of issues around consolidation involving market exit into sharp relief – and also a comment made by numerous observers and commentators in the past that the airline industry in Europe is one where there might be "free entry, but not free exit".
The reality is that social and political considerations, rather than economics, will continue to be a constraint on the airline industry in Europe, despite the best efforts of management teams.